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Protecting Your Funds Are your municipality’s assets safe? by Robert Inzer
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ost of us are familiar with Bernie Madoff, who created the largest Ponzi scheme in U.S. history and swindled investors out of tens of billions of dollars. There were only a few local governments nationally that had invested in his fund. He was not the first unscrupulous investment manager and won’t be the last. Let’s not forget about ESM Government Securities Inc. , a South Florida-based securities dealer that swindled investors out of over $300 million in the mid-1980s. Investors that lost money included several South Florida cities. Orange County, CA, this year retired the last of the outstanding bonds sold to bail the County out of its 1994 bankruptcy. It was the largest U.S. county ever to declare bankruptcy. The bankruptcy was caused by the County Treasurer’s overly aggressive investment strategies while leveraging county funds. The securities involved were government agency-issued derivative securities tied to a specific interest rate outlook. It turned out that the market values of these bonds were highly volatile. The securities never defaulted, but when unanticipated interest rates movements occurred, the value of these securities plummeted. The County sold $1.6 billion in debt to fund the losses. In addition, there have been significant losses incurred by Florida cities arising from investments in assets they did not fully understand, with risks not fully appreciated. New investment instruments seem to regularly emerge from Wall Street dealers, each being a little more exotic than the last. By 2006-2007, we had local governments investing in bonds backed by subprime mortgages, where the underlying loans were highly risky. Some 28 QUALITY CITIES | FOURTH QUARTER 2021
cities purchased more exotic instruments. They bought specific tranches of mortgages whose return was often unpredictable and ran counter to the market. These securities were rated AAA by Moody’s and Standard & Poor’s rating services and thus qualified for investment by most investment policies at the time. These same securities were downgraded to below investment grade status, declined in value and even defaulted. Florida’s Local Government Surplus Funds Trust Fund (now Florida Prime) also purchased securities they did not fully understand or appreciate. When the investments became illiquid, the state was forced to withhold access by participating governments to some of their funds for years. Many local governments and the Florida Local Government Investment Trust were invested in large blocks of these securities and incurred significant losses. If these large institutions can make serious investment mistakes, don’t assume that your government is immune. The State of Florida has recognized the risk associated with the investment of your government’s investment portfolio. Over the years, it has taken steps to help protect you from unscrupulous brokers marketing investment products inappropriate for your portfolio and unsophisticated staff managing these assets. Florida Statutes 218.415 addresses local government investment authority and requires certain safeguards to protect you and your citizens from future losses. Among other things, it requires each unit of local government to adopt an investment policy approved by the governing body, or alternatively, restricts investments to AAA-rated money market accounts, certificates
